1.4 - IP-rights: facilitating a market for intangibles

Scarcity and markets. Because private goods are rivalrous and excludable, they are scarce, and therefore the economic law of supply and demand can do its work and people are willing to pay a price to be able to use private goods. However, because intangible goods are non-rivalrous and non-excludable, intangibles are not scarce and therefore ‘homo economicus’ will in principle not be willing to pay a price for the use of these public goods. Because intangible goods are non-rivalrous and non-excludable under the ‘laws of nature’, others can only be excluded from using these intangible goods by ‘man made laws’. That explains the central role and the goal of the various intellectual property rights, which are all characterized by granting the owner exclusive rights to use the intangible goods concerned.

Property and markets. Being able to exclude others from using one’s property is an essential requirement for the creation of markets and setting prices. If one can physically exclude someone from being able to use a good, one takes the risk that a person may try to break the physical barriers – by climbing over a fence or breaking in – and obtaining unauthorized access to a good. Therefore, a property right – the right to exclude others form the use of a good – is an essential legal instrument to make market forces possible. If an object is stored by its owner under ‘lock and key’ and a burglar still wants to take possession thereof, a property right is the legal ‘lock on the door’, which allows the proprietor to legally exclude others from using or obtaining the good.

Utopia. In a society with a fully functioning legal system, it would not even be necessary to physically shield goods. If people simply respect other people’s property, physical barriers to safeguard one’s property serve no purpose. That this would ever become reality seems an utopia: ‘an impossible reality’. The problem of an impossible reality is one of the major problems that intangibles are facing.

Property. The right to property is an essential ingredient for the functioning of markets in private, material goods. The right to property is necessary even though material objects are excludable without a property right. That makes it clear that when intangibles are concerned – whose use cannot be physically excluded once they have been made public – intellectual property rights are indispensable to be able to create functioning markets for immaterial goods.

Capitalism. Not only are property rights indispensable for the realization of markets and transactions regarding material or immaterial goods, property rights are also indispensable to make it possible to finance (i) these transactions as well (ii) the investments required for the production of material or immaterial objects. Without property rights it is impossible to grant – whether or not through the intermediary of a corporation – (a) ownership rights in that property to third parties as shareholders or (b) security rights on that property – in the form of a pledge, lien or mortgage – to lenders. The role of property rights as an indispensable mechanism for the facilitation of markets should therefore not be underestimated. As the economist Schumpeter underscored, property is a necessary instrument for an innovative economy and an essential feature of capitalism: “We have to define that word which good economists always try to avoid: capitalism is that form of private property economy in which innovations are carried out by means of borrowed money” (Schumpeter, 1939, p. 223).

Intellectual property. Intellectual property rights are of critical importance, because it is only via this legal construction that scarcity of intangible objects can be created and maintained and the economic law of supply and demand can be put into operation. Without this legal instrument, there is no difference between the situation in which one would try to charge one’s neighbor a price for inhaling the outside air or the use of the light from a lighthouse.

Intellectual property and investment in public goods. Intellectual property rights are therefore an indispensable instrument to stimulate investments in the development of intangible assets – public goods – and to make those investments economically justifiable and realistic. That does not mean that without intellectual property no inventions would be made or no books would be written. History teaches us that this assertion is untenable, if only because we left the Stone Age behind us centuries ago, while intellectual property has been around for no more than two hundred years. However, the fact that inventions have been made and books have been written without intellectual property, does not mean that introducing intellectual property cannot provide an additional incentive for potential inventors and authors and substantially increase the creation of inventions and writings. Without intellectual property there is no economically sound perspective of being able to recuperate the investments necessary for the creation, production and further development of these intangible assets.

High initial costs – negligible marginal costs. It is a characteristic of immaterial objects that they are easily reproducible and scalable because of their intangible nature. The costs that need to be made to produce an intangible object are essentially taken up by the efforts necessary to create the first copy: the initial or start-up costs. Once the first copy has been made, the marginal costs – the additional costs necessary for the production of a copy – are usually low. The fact that many movies cost millions to make and are downloadable at a large scale after – or even before – the official premiere, underscores the relative ease with which intangible objects can be scaled-up and reproduced.

Normative barrier. Just as traditional property rights create the normative framework that economically justifies investment in the development, production and distribution of tangible assets, intellectual property rights create the indispensable normative barrier that provides a safe haven for investments in intangible assets. Intellectual property is therefore a conditio sine qua non for allowing market functionality and price setting for immaterial goods. Without the legal authority to exclude third parties from the use of an intangible object protected by an intellectual property right, it is practically impossible to get a return on the investment that is necessary for the development and production of these immaterial, non-excludable goods.

Private or public funding. If not for intellectual property rights, private investments in the development of immaterial goods cannot be economically justified. If one would abolish these rights, or if these rights cannot be effectively enforced, a rational investor will not invest in the development of intangible objects if  they can be freely used and copied by others. In the absence of a functioning system of intellectual property rights, society will therefore have to rely on government funding for the development and production of technological or cultural goods. Today, that is already happening, for instance in the form of publicly funded research at universities or research institutions. The question is, however, whether it is wise to put one’s faith in the government as an instigator of technological or cultural innovation and production. A great talent for scouting, developing and stimulating innovative ideas can hardly be attributed to governments, if only because they lack the ruthlessness, which is necessary to separate the wheat from the chaff – which is, in reality, the primary quality of market forces.